LEGAL battles over disparities in education funding may do more to change education in the next decade than any of the current reform initiatives, according to a new report from the Educational Testing Service (ETS)."The State of Inequality" documents different levels of education funding between states and between school districts within the same state. On the national level, New Jersey spends over $8,000 per pupil annually, more than triple what Utah spends. The report outlines a recent wave of court challenges to state educational finance systems. Since 1989, plaintiffs have successfully overturned the school-finance systems in five states - Montana, Kentucky, Texas, New Jersey, and Tennessee. These cases were based on unequal funding practices within states. For example: * In Montana, wealthy districts had a ratio of 13 students per teacher, compared with ratios in the high 20s and 30s in poor districts. * In New Jersey, foreign languages were studied at the preschool level in the wealthy district of Montclair, but not until the ninth or 10th grades in the poorer city of Paterson. * In New York, the affluent Shoreham-Wading School District spent $17,000 per pupil and had computers in every classroom. Meanwhile, almost half of the students in the less wealthy William Floyd School District attended classes in trailers because the district couldn't afford new buildings. "People have brought charges of inequality at the state level, and the courts have listened to them," says Paul Barton, director of the ETS Policy Information Center and a co-author of the report. Legal battles over school financing disparities will continue throughout the early 1990s, predicts this report. Litigation is currently under way in 21 states. The Kentucky Supreme Court declared the entire school system unconstitutional two years ago. Now the state is addressing the issues of funding equity and educational reform simultaneously. "In Kentucky these are not seen as two separate and competing things, but they are in fact woven together," Mr. Barton says."If education finance is having to be rethought because of legal action in the states, it seems to make sense to try to relate that to restructuring of education from a substantive viewpoint." The ETS report is designed to provide "plain talk" on the arcane topic of school financing. It lays out the past, present, and possible future of this complex issue. A large part of the difficulty in understanding school finance stems from the murky research on the subject. Three decades of scholarship have failed to find a direct relationship between such factors as per-pupil expenditures and student achievement. Nevertheless, courts have ordered states to rectify disparities. "In a lot of cases, the courts are buying the implied relationship between inputs and outcomes," says Margaret Goertz, a co-author of the ETS report. "If you have districts with buildings that are falling down, and no support services, and classes of 45 [students], they tend to be more sympathetic to that relationship." Comparisons between expenditures per pupil and outcomes are made more difficult by the inefficient use of resources in some school systems, according to Barton. In an effort to find out how spending relates to the actual resources reaching classrooms, this report analyzes data from the state-by-state assessment of mathematics conducted by the 1990 National Assessment of Educational Progress. The assessment asked eighth-grade teachers across the United States how well their school systems supplied them with instructional materials and resources. "Indeed," Barton says, "it seems that when the classroom teachers say they don't have the materials they need, their st udents have lower math proficiency." According to ETS president Gregory Anrig, "The goal of improved academic performance by elementary and secondary students is impossible to achieve if the nation does not address the gross inequalities in the ways schools are funded."